I just listened to a very interesting Macro Musings podcast—with David Beckworth interviewing Tyler Cowen. Tyler sees the Fed passivity during the last decade as part of a broader increase in risk aversion across American society, part of what he calls the rise in complacency. I like that hypothesis, and look forward to reading his new book on my vacation next week.

I’m less convinced by his argument that this also explains the public’s obsession with low inflation, and refusal to contemplate NGDP targeting. I would argue that the public is not opposed to NGDP targeting, indeed they’ve never even heard of the idea. So let’s try to disentangle what Tyler had in mind in his comments on this subject:

1. The public might prefer the specific policy of inflation targeting to the specific policy of NGDP targeting.

2. The public might prefer the outcome (in terms of economic performance) of inflation targeting over the outcome produced by NGDP targeting.

The first interpretation is a complete nonstarter. If you asked the average American to discuss strict inflation targeting, flexible inflation targeting, symmetric inflation targeting, asymmetric targeting, growth rate targeting, level targeting, etc., you’d produce a glazed look on their faces. And even that understates the problem. Most people only understand the concept of supply side inflation; they have absolutely no understanding of demand side inflation. Hence they think inflation is bad because it lowers their real income, but that’s only true of supply side inflation. Even worse, the Fed only controls demand side inflation, so Fed policy has no impact on the only kind of inflation the public understands. I used to ask my class whether the cost of living had actually increased if both wages and prices rose by exactly 10%. And over 95% always got it wrong, claiming that the cost of living had not actually increased. (Actually, it rose by 10%.)

And even that understates the problem, because very few Americans even understand that the Fed can choose between 2% and 4% trend inflation like someone choosing between massaman curry and pad thai for their entree. They don’t know that that is what the Fed does. How many Americans know that the Fed’s tight money caused the Great Recession?

So I’m going to assume that what Tyler meant was that Americans would be happier with the outcome of inflation targeting as compared to the outcome of NGDP targeting. I doubt that. People might say they prefer 0% inflation to 2% inflation, but I doubt that they’d say they prefer America’s 2009 economy to its 2007 economy. But the 2009 economy is what you get when you reduce inflation to 0%. Actually, we were much closer to NGDP targeting in the period before 2007 than in the years immediately after 2007. And yet Americans seemed much more unhappy with the post-2007 economy. Now of course it’s entirely possible that if the Fed had kept NGDP growing at 5% after 2007, the public would have been even angrier than they were with the actual policy (a fall of 3% in NGDP between mid 2008 and mid-2009.) But I doubt it. I think they would have been a bit disgruntled by the stagflation, but nothing more.

Both David and Tyler believe that the Fed now views 2% inflation as a ceiling, not a symmetrical target. I’m still not convinced; let’s look at this again in 10 years. If it’s still a ceiling, I’ll throw in the towel. It was clearly a symmetrical target before 2007—why would the Fed have suddenly changed?

PS. David and Tyler also discussed the declining rate of innovation in the arts. Here’s a quote from a different Tyler Cowen interview:

If you think about Renaissance Florence, at its peak, its population, arguably, was between 60,000 and 80,000 people. And there were surrounding areas; you could debate the number. But they had some really quite remarkable achievements that have stood the test of time and lasted, and today have very high market value. Now, in very naive theories of economics, that shouldn’t be possible. People in Renaissance Florence, they didn’t produce a refrigerator that we’re still using or a tech company that we still consult.

But there’s something different about, say, the visual arts, where that was possible, and it was done with small numbers. So there’s something about the inputs to some kinds of production we don’t understand. I would suggest if we’re trying to figure out, like what makes Silicon Valley work, actually, by studying how they did what they did in the Florentine Renaissance is highly important. You learn what are the missing inputs that make for other kinds of miracles.

That’s an interesting point–future generations will be more interested in our art than our technology.

Here’s another question to consider. In the arts, there are periods of rapid innovation (the Renaissance), followed by periods of stasis. In David’s interview, Tyler cites the rapid innovation in pop music during the 1960s, relative to the slower innovation today. Is that different from the observation that explorers no longer discover as many new lands as they did in the heyday of Portuguese and Spanish exploration? Are we less talented at exploration, or are there simply fewer as yet undiscovered lands? Perhaps the analogy is silly, but let’s take it a step further. The discovery of new planets, and the technology that allows us to get there, would presumably lead to another Golden Age of discovery. Doesn’t the invention of new art forms (the novel, film, electronic music, etc.) open up vast new fields for artistic discovery? Isn’t Robert Gordon’s argument that innovation in existing fields has diminishing returns, and that we need to develop entirely new fields to supercharge innovation? Thus we understand the physics of the non-microscopic world so well that it’s getting really hard to radically improve our houses, cars, airplanes, ships and washing machines. The only area of rapid innovation is at the microscopic level (biotech, computer chips, etc.), which opened up only in the past 50 years or so. Gordon doesn’t expect more such fields to open up, and thus predicts diminishing rates of innovation in the fields that we already have. (I’m agnostic on that claim.)

I also just listened to the Beckworth/Cowen podcast. Perhaps I misremember, but I took Cowen to be using “public” in a narrower sense, as in the “informed public”. Not quite just the economics profession, but slightly more inclusive into those who follow enough economics to know roughly what the Fed does. I’d include Congress in this, though of course that is case by case debatable.

Furthermore, as for the choices, I’d add to your #1 and #2 and
3. the informed public wants low inflation/less risk, so is drawn to inflation targeting as (incorrectly) likelier to achieve this

Think of this as the false allure of price controls. We want rent to stay down, so pass a law to make it stay down. We want inflation (since inflation is risky), so pass a law to target inflation as low.

In this interpretation, I agree with what Cowen is saying. The (slightly informed) public is drawn to low inflation targeting as a simplistic solution. NGDP targeting is harder to grasp.

I think the public is also sensitive to the fact that bouts of inflation seemingly hurt the most vulnerable. Those unemployed and/or on some sort of fixed income that is not inflation-adjusted. A few years of low-growth/high-inflation could really hurt those types.

Cowen calls Trump’s election an attempt at a “great reset.” His book points out that white males earned less in 2015 than they did in 1969, once you adjust for inflation. He dubs it “one of the most stunning facts about contemporary America.”
“I think those people [in the Rust Belt] are smarter than the coastal elites have been. They actually see the problem pretty clearly,” he argues.–CNN

Cowen the Trumpista? Cowen also dubs America’s infrastructure as “crummy.”

Because the public has a weird model of the economy, NGDPLT leads the public to lay blame at the Fed for problems it cannot solve: namely high (supply-side) inflation in bad times. With inflation targeting and a low-inflation target, the Fed avoids criticism as the public does not link its failures (higher unemployment, lower RGDP growth) to the Fed.

So, the Fed (and certainly the ECB) is responding to the policy demands of the public. If anything, the ECB is not a hawkish about inflation as the typical well-informed European citizen (even from the PIGS countries).

So, the Fed (and certainly the ECB) is responding to the policy demands of the public. — Luis Pedro Coelho

I think you are wrong, at least about the U.S.

Suppose you asked a guy, “Would you like to live in a world of 3% inflation and 3% real growth (the 1982 to 2007 USA model) or 2% inflation and 2% real growth (2007 to present USA model), which would you choose?”

Yes, there is the knee-jerk response of (in a sniveling voice), “I want no inflation.”

Then there are people who enjoy keeping labor markets loose as a matter of policy, and they would vote for 0% inflation.

But I think once the term “real” is explained, you would get on the right track for most of the voting public.

“President Trump told the Wall Street Journal on Wednesday that he may reappoint Janet Yellen to chair the Federal Reserve Board when her term ends in 2018, even though he thinks she should keep interest rates low.”–The Hill.

Well that is Trump’s interest-rate stance of today, but it could change a few more times before sundown….

Nathan, If you are talking about the informed public, then I don’t agree with your comment. (I would exclude Congress form the informed.) I think Tyler is mostly describing the views of the uninformed.

Effem, You said:

“I think the public is also sensitive to the fact that bouts of inflation seemingly hurt the most vulnerable. Those unemployed and/or on some sort of fixed income that is not inflation-adjusted.”

Actually inflation is most beneficial to the most vulnerable. Demand side inflation (the type produced by the Fed) helps the unemployed find work. Those on fixed incomes tend to be relatively affluent. The poor tend to rely on Social Security, which is indexed to inflation.

Ben, They clearly say that it’s not a ceiling. So if we go by what they say then it’s not a ceiling.

As far as white males earning less, I don’t believe it. I’ll do a post on that soon.

Thanks Saturos, I did a post.

Luis, Again, the public doesn’t understand inflation well enough to even have an opinion on the subject. I think it’s basically meaningless to talk about the public’s opinion of inflation, given that they define the term in a radically different way from economists. It’s like talking about the public’s view of quantum mechanics.

Probably “future generations will be more interested in our art than our technology,” because our art will still have some esthetic value while our technology will be for the most part completely outmoded. But our technology will have been a stepping-stone to the (very important) technology of the future. Future people will be depending–unknowingly and indirectly–on our technology to a vastly greater degree than they will on our art.

Wall St. has been interpreting 2% as a ceiling and not a central tendency. This is clear in TIPS spreads. Which interpretation is correct, we won’t know until we what actions the Fed takes as inflation approaches 2%.

“I used to ask my class whether the cost of living had actually increased if both wages and prices rose by exactly 10%. And over 95% always got it wrong, claiming that the cost of living had not actually increased. (Actually, it rose by 10%.)”

Just curious if you could explain? My econ degree is only an undergrad one and my first thought was the answer is: we don’t know because it depends on the basket of goods people actually buy. It’s not obvious to me how I’d know the answer is 10% if both wages and prices grew by that amount.

Doug, The TIPS spreads are simply not that precise. There’s a risk premium built in. The consensus of private sector forecasters predict 2%. They may be wrong (I’m on record predicting 1.8%), but that’s not obvious to me.

Chappy, Wages have nothing to do with the cost of living, it’s the average increase in prices.

The public is and has always been opposed to centralized banking. It is why initiations and/or threats of violence, i.e. aggression, has been used to maintain it. Central banking is not a market institution, it is a state imposed institution.

To debate whether the public opposes or supports NGDP targeting is like asking a victim of violence whether he “supports” this type of violence or that type of violence, and never actually addressing the use of violence against him in the first place.

This blog should be renamed The Socialist Illusion.

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Welcome to a new blog on the endlessly perplexing problem of monetary policy. You’ll quickly notice that I am not a natural blogger, yet I feel compelled by recent events to give it a shot. Read more...

Bio

My name is Scott Sumner and I have taught economics at Bentley University for the past 27 years. I earned a BA in economics at Wisconsin and a PhD at Chicago. My research has been in the field of monetary economics, particularly the role of the gold standard in the Great Depression. I had just begun research on the relationship between cultural values and neoliberal reforms, when I got pulled back into monetary economics by the current crisis.